Tips on handling taxes for household employees

By Alex Veiga AP Business Writer Taxes. They're just about the last thing parents might think about when they hire someone to watch over their child. Yet a hefty tax bill is a possibility for anyone who pays a nanny, housekeeper, gardener or other household employee enough in annual wages to trigger a bevy of requirements under tax laws. This year, that financial threshold is $1,800, and it makes the person who hired the household employee responsible for paying that worker's federal and state payroll taxes, just like any other business owner. They also must reflect in their own annual tax return that they had a household employee. "People think if they pay this person in cash, they don't have to report it, and the recipient doesn't have to pick it up as income," says Cindy Hockenberry, manager of research for the National Association of Tax Professionals. "But there are taxes due on that, and the IRS wants their taxes." Here are six tips on how to make sure you're not running afoul of the tax man when hiring household help: 1. Sort Out: Independent Contractor or Household Employee. Whether you're on the hook for your nanny or maid's payroll taxes begins with determining if he or she meets the IRS' definition of a household employee, rather than an independent contractor. The IRS defines a household employee as someone hired to do work in or around a home, at the direction and control of the person who lives in the home. Meaning, you tell them what to do and how to do it, and perhaps provide the supplies--for instance, if you hire someone to mow your yard and they use your lawn equipment. In the case of a nanny: "Any parent would have an almost impossible case to make that they don't have the right to control the work that's being done in their private home with their child," says Kathleen Webb, president and co-founder of HomeWork Solutions, which provides payroll and tax services to people with household employees. Other examples of household workers: Drivers, home-health aides and maids. So who wouldn't be a household employee? If workers can control how they do the work, are self-employed or bring their own tools, they're likely to be considered independent contractors. 2. Determine which Taxes You Are Expected to Pay. Assuming your nanny or other hire meets the household employee standard, it all comes down to whether you pay the person cash wages of $1,800 or more. If that's the case, you are required to pay 15.3 percent of their wages in Social Security and Medicare taxes. The employer covers half of those taxes (6.2 percent for Social Security and 1.45 percent for Medicare) and can withhold the other half from the employee's paycheck. The IRS requires employers withhold additional Medicare tax if their employee makes more than $200,000 in a year. If your household employee is an immediate family member, your spouse, parent, or child under 21, you don't have to pay any employment taxes. Be aware that you also could be on the hook for federal and state unemployment taxes. If your employee is paid $1,000 or more in any calendar quarter, then you must also pay federal unemployment tax of 6 percent of their annual wages. You may qualify for a credit of up to 5.4 percent against the federal unemployment tax, however, according to the IRS. That would effectively lower your federal unemployment tax to 0.6 percent. To find out whether you have to pay state unemployment taxes, visit www.workforcesecurity.doleta.gov/unemploy/agencies.asp . 3. Decide Early on How You're Going to Pay. The IRS gives you the option to withhold your employees' share of their Medicare and Social Security taxes from their paycheck, or to elect to pay their share yourself. Let's say you are looking to hire a nanny to come over a couple of nights a week for three hours. At the current federal minimum wage of $7.25 an hour, that's $43.50. Extend that over a year, and it's $2,262 -- triggering the requirement that you pay the nanny's payroll taxes. Under that scenario, unless you have been withdrawing payroll taxes over the course of the year, you'll have to come up with $173.04 to settle the nanny's portion of the tax, and an equal amount for your obligation as the employer. That's probably a manageable amount to shell out come tax time. But if you end up needing to hire a nanny to come over several times a week, that tax payment could be much more. In that case, withholding payroll taxes along the way makes more sense. Experts suggest that household employers begin withholding payroll taxes as soon as it seems likely that they'll be increasing their employees' hours, and wages, dramatically. Even if you choose to cover the payment yourself, another option is to set the money aside in a separate bank account, so that you're not scrambling come tax time. 4. Verify an Employee's Legal Status. The government doesn't look favorably upon employers who hire people who can't legally work in the U.S. So the IRS requires that employers and their hires complete an employment eligibility verification form, dubbed I-9, before the end of the employee's first day of work. The form requires that non-U.S. citizens provide information backing up their legal employment status and that the employer examine the information against a list of acceptable identification documents. Once it's filled out, employers must simply hang on to the form. It can be downloaded at http://www.uscis.gov/files/form/i-9.pdf . 5. Keep Solid Records. It's important to keep accurate records of all wages and federal and state taxes you pay or withhold on behalf of your employee. The record-keeping will come in handy when it comes time to file several forms with the IRS. They include Schedule H, on which employers report household employment taxes paid, and Form W-2, which outlines your employee's annual wages, taxes paid by you and other details. 6. Get Help. Instead of dealing with the intricacies of the U.S. tax code, you can pay an accountant or one of the many companies who cater to handling payroll and tax concerns for domestic employers. Webb's company runs 4NannyTaxes.com. Its services range from $495 to upward of $750 a year. They also provide free online calculators, including one to work out payroll taxes: https://www.4nannytaxes.com/calculator/taxcalc.cfm . Another company, Breedlove & Associates, offers a pay-as-you-go service on its website, www.breedlove.com, that costs $185 every three months. For a more hands-on approach, Essentia Software Corp. sells NannyPay, software that will calculate taxes, print pay stubs and tax forms. It starts at $119.95 and requires an annual subscription. It can be downloaded at http://nannypay.com. Published: Thu, Mar 28, 2013